April 06, 2007

FT: Hitch a ride on a search engine

Hitch a ride on a search engine

Off Santa Monica’s touristy Third Street Promenade, up a narrow flight of stairs, there is an unmistakable hustle in the air.

The
ceiling of Richard Rosenblatt’s office has not yet been finished, and a
clutch of investment bankers is waiting in the hallway for a meeting
(probably a common occurrence, given that he raised $220m last year to
build his latest internet start-up.)

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This
district of Los Angeles has become a centre for the new digital media
industry, a place where technology from Silicon Valley, 350 miles to
the north, mingles with the creative impulses of nearby Hollywood. It
is no coincidence that Yahoo! moved its media arm here, or that
Electronic Arts has built a games studio nearby.

The fast-talking
Mr Rosenblatt, 37, is already a veteran of this world. The last company
he headed, Intermix, was sold to Rupert Murdoch’s News Corp in 2005 for
$650m, thanks to the success of one of its online subsidiaries that at
the time was only just gaining wider attention: the social networking
site MySpace.

He claims to have no regrets now about giving up an
internet property that has since become a household word. Yet Mr
Rosenblatt is itching to go one better than he did before.

For a
would-be entrepreneur, there is a paradox to the digital revolution
under way in the media business. On the one hand, the barriers to entry
have collapsed. It has never been this easy for anyone with a good idea
to find an instant audience. Given the sizeable fixed costs involved in
setting up a large-scale operation, however, this is an industry where
big money is starting to count.

Mr Rosenblatt’s company, Demand
Media, exhibits both sides of this conundrum. Starting with a clean
sheet of paper, he and his business partner Shawn Colo, a veteran of
private equity, have set out to build a new media company that is
tailor-made for the era of Google and MySpace.

Any media
business, says Mr Rosenblatt, needs three things: content, an audience,
and a way to cash in on that audience. The trick is to find a free – or
at least extremely low-cost – way to do each of these things.

Take
the way Demand sets out to attract an audience. Some of its cash has
been spent on acquiring digital assets that have a good chance of
attracting the casual web surfer. That includes buying generic domain
names – such as Gardening.com – that internet users are likely to type
directly into the address bar of their Web browser.

A second
approach relies on “natural” search – the free listings that Google and
other search engines return in response to a query. Demand has bought
up sites that stand a good chance of figuring high in the results. They
include eHow, a collection of tips written by professionals that is
targeted at search engine users.

To make money from this audience, Demand relies entirely on
plugging into Google’s AdSense system. This places contextually
relevant advertisements on other companies’ websites in return for a
cut of any money earned, relieving companies such as Demand of the need
to employ their own salesforce.

Content, the third element, is a
work in progress. On some of Demand’s sites, the adverts from Google
are the only content. Flashgames.com, for instance, is a website that
exists purely to draw users to Google ads. Users who go to the site
find a collection of links to other games sites: a click on any of
these earns the company a fee.

That
is the starting point. Adding other types of content to keep users on
the site longer, or recommend it to their friends, could eventually
increase the audience and advertising yield. From his experience with
MySpace, as well as earlier internet ventures, Mr Rosenblatt is clear
about the cheapest way to do this: give people the tools to create the
content themselves.

It all sounds like a highly opportunistic and
low-risk recipe for turning a profit. Yet perfecting this system takes
big money. Partly that is because it relies on the sort of leverage
that comes only from being able to aggregate a large amount of internet
traffic.

“The bigger you are, the more attention you get from the
search engines. They want to do big deals,” says Mr Rosenblatt. The
little guy simply can’t bargain for the same sort of revenue share when
it comes to negotiating an advertising deal. Also, size helps to
justify the large fixed investments in infrastructure, expertise and
technology needed to run an internet company like this.

“We
think, right now, scale is important,” says Mr Rosenblatt. That is one
of the lessons from MySpace: without the backing of a big parent like
News Corp, he says, MySpace could never have afforded the investment
needed to grow so quickly.

Scale also brings something else: a
deeper knowledge of user behaviour, and the value of internet content,
that can be used to perfect an online business model. With what Mr
Rosenblatt claims are 9m domain names and 15m-20m unique monthly
visitors, his company is in a position to analyse usage patterns and
financial returns across many different websites.

“You can
predict the ROI [return on investment] on a piece of content,” he says,
and make smarter decisions about when to invest in extra content to
attract an audience.

The model, however, is not without risk.
Relying on natural search to generate an audience leaves a company
dependent on the methods that popular search engines use to rank their
results. These can change abruptly as search engines act to prevent
websites “gaming” their systems, creating unpredictable changes in the
search rankings.

Also, without their own sales forces, Demand’s
reliance on the advertising networks of Google and others gives it less
control over their revenue-generating capability. And because it
amasses a large audience by drawing together many specialised ones –
what is known on the internet as the “long tail” – it probably has no
other option.

“For most of the ‘long tail’, you need to give up your advertising to a Google or a Yahoo,” says Mr Rosenblatt.

When personal gets vertical

It
all sounds so 1999. In the first dotcom boom, there was much talk of
“vortals” – short for “vertical portals”, or specialised gateways to
the internet that would draw an audience of people who shared a common
passion. The language of the Web 2.0 boom may be different, but it
appears that some ideas don’t change.

“I think social networks
and communities will become more personal and more vertical,” says
Richard Rosenblatt, chief executive of Demand Media.

In other
words, sites such as MySpace have benefited from the new passion for
social networking, but this audience will fragment as internet users
congregate around online services that reflect their particular
interests, whether that is gardening or kayaking.

Mr Rosenblatt
has licensed back some of the social networking technology that, as
chairman of Intermix, he sold to News Corp, and is now working to graft
that on to the specialised websites that Demand has assembled. If all
goes to plan, for instance, users of eHow will later this month be able
to post their own advice on the site and find related tips written by
friends or others who share their interests.

The next step, says
Mr Rosenblatt, will be personal portals that are even more closely
tuned to each user’s interests. To that end, Demand has licensed the
“.tv” domain and is building a service to let internet users run their
own personal video portals.

“People will want their own vertical, and their own personal space,” says Mr Rosenblatt.